Russia’s ruble stand-off

Russia’s halt in gas supplies to Poland and Bulgaria for their refusal to pay in rubles has the energy market guessing who might be next. It is still unclear whether customers agreeing to the Kremlin’s new terms is a breach in EU sanctions, even without an outright embargo on gas imports. Listen to a discussion on the apparent weaponization of gas, and what a further stop in Russian flows could do to European industry and wholesale prices.

Host: Richard Sverrisson, Editor-in-Chief, Montel 
Guest: Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects

Transcript

Richard Sverrisson, Editor-in-Chief, Montel: 0:05

Hello listeners and welcome to The Montel Weekly Podcast, bring Energy Matters in an informal setting. The war in Ukraine shows no sign of abating and nor does the risk of supply stops of Russian gas. Moscow has already cut off supplies to Poland in Bulgaria. Largely as a response to their unwillingness to pay in rubles rather than in Euros as part of a six package of sanctions against Russia. The European Commission is now looking at ways to ban crude oil imports from the country within six months. But what about gas? Could Europe cope with a sudden halt to gas flows from Russia, and what would the impact be on prices and energy consumers, both large and small, helping me, Richard Sverrisson. To discuss the key issues facing Europe's gas market is Trevor Sikorski of Energy Aspects. Welcome back, Trevor. A warm welcome.

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 0:49

Thank you, Richard. Always good to be here.

Richard Sverrisson, Editor-in-Chief, Montel: 0:51

It seems as though Russia's cut off Poland and Bulgaria. It has. And who's next?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 0:57

There's lots of discussion at the moment about who's, who was responsible for the, these kinds of reductions. Was it just a an unwillingness to pay by the Polish and the Bulgarians that led this, led to this happening? Or was it actually them paying in Euros and then being told that they hadn't paid and had that money sent back to them, and therefore then that led to the suspension of the contracts. And I, and there's, at the moment it's just a lot of hearsay. But what we do know is, as you've said. The Polish contract and the Bulgarian contract, both of those contracts for reasonably small volumes but also expiring at the end of this year. So they're not very long lived ones have been suspended and then we have a whole bunch of payment deadlines coming up. In May. May, and it is gonna be a big question to see are some of the really big contracts, with German buyers, with French buyers, with Italian buyers, are those gonna suffer the same fate or is there a workaround? And I think that's the kind of key thing the market's kind of grappling with at the moment is, just what is the legality here? Just what can you do and can you not do. In terms of being in line with sanctions. Now, certainly there's, certain, I would say legal readings of this that would say that you can open up a, a Rubal account. You can open up a bank account with. Gas pro bank, and neither of those would be really against the sanctions you could pay in Euros. And if you could ensure that the transaction into rubles was done fast enough it would also be consistent with the current, with the current sanctions, you wouldn't be breaching those. And if you look at the commission guidance, the commission, that's what it is. It's guidance. It's not a legal interpretation of. A binding, legal interpretation of what would be against the law and what would be breaking sanctions. But that does point to the possibility of basically providing a loan. And the way you would probably interpret that in terms of, providing a loan to the Russian, to a Russian party. Which again would be breaching sanctions would be if that transaction takes too long to go from being euros to being rubel. And so there's just a lot of grayness that, everyone's trying to cut through and trying to understand. I would say the market pricing generally isn't factoring in a massive amount of disruption, but you certainly can't rule out some additional ones. And a number of European. Smaller European buyers have come out and said, we, we're likely, not even going to try to do this in some ways, and we are probably gonna, or we're not gonna pay in rubles. And therefore you could see the sanctions. You're looking at Ted doing that. Maybe gas terror doing that. There's a few other of the smaller ones doing that.

Richard Sverrisson, Editor-in-Chief, Montel: 3:39

There seems to be. It's very complex. It seems to be food for lawyers here more than anything. Because on the one hand the European Commission is saying that kind of system breaches the sanctions. So what kind of advice would you give to these? Countries or smaller companies then

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 3:56

It's, it, I'm not a lawyer, but thankfully because that is difficult. But it, I think what you'll see is a lot of the, the companies that are affected by this will get, some very good legal advice on how they can, satisfy both kind of parties here, both the Russian state of course. And the European commission and, all of the Western sanctions and being in line with those and not breaching any of those. And they will probably reach out to their governments as well to, and say, this is what I'm going to do. And, and is this okay? And probably, cover themselves two ways. One, with legal advice, and probably two with, at least an unofficial approval for how they're going to proceed in this matter. Like I said, it doesn't feel like the market is pri, is pricing in yet a huge amount of disruption? Yes, there's maybe a little bit of risk in there. It doesn't feel like the type of price response you would get if a lot of these contracts start disappearing and all of a sudden a lot of Russian, even more Russian gas starts disappearing out the European balances. You would see a much higher price coming.

Richard Sverrisson, Editor-in-Chief, Montel: 4:57

I've seen some commentators say that Poland and Bulgaria were chosen 'cause they sort of soft targets. What's your view here? Could Moscow pick another soft target in the middle of May?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 5:07

There's just a lot of rumor in here about exactly who was responsible. Did they try to pay, did they not try to pay? Did they just say we're gonna continue to pay as we've always paid, and then have it sent back, which is possibly what happened, and like you said, they're not that big. And b, they were ex, they were contracts expiring anyways, right? So they didn't have a particularly long shelf life. Now, a lot of the other contracts do have quite a long shelf life. If you look at the contractual water folders a big chunk of things, disappearing this year, that's about 24 BCM that's set to expire at the end of this year. Now. And you can say all of those contracts may be.'cause you're only looking at maybe losing six, six to eight months of supply under those. That's a reasonable amount of value anyways. But you could probably take that hit. But if you're looking at a 10 or 15, something that still has 10 or 15 years to run, a big chunk of those contracts still have that legacy period to go. That would be a much bigger, economic hit to, to take. By the Russians and probably there, they would be more active in trying to get those on side, to get those on side. So I think there's still a lot of questions on those little ones, but yes, they happen, they weren't, they probably were an easier loss for, gas to take. So maybe it was, sending a signal that they were serious about this. But certainly, it, it would be a little bit of a shock to the market. See some of. Have this, have the same outcome as what we saw with Poland.

Richard Sverrisson, Editor-in-Chief, Montel: 6:33

How big a risk is a total cut in supplies. And the other thing is what is Moscow thinking? What is Putin thinking? Could he realistically cut everything? Is that in line with the strategies you've seen so far?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 6:47

Very hard to double guess what Mr. Putin's thinking. Rationality in some ways, left the building quite a long time ago, and we are into, some very difficult real politics now. I think, if we look at. How serious and how difficult would this be if you had a total withdrawal supply? It would be massively difficult. You're still seeing, 20 BCM or something, every on an annualized basis coming in. But that's a lot of gas. On a monthly basis you're at 10 and it would be very hard to, it would be hard to meet demand. It would be hard to fill storage. So you'd have a lot of problems for the winter as well. So it would just be enormously difficult and you would have to see enormous amounts of demand being shed, between now and, and until you could replace or lose that demand. And that would probably fall heaviest on European industry. So you'd probably, and you probably would see things like, the suspension of markets you would be into, governments needing to dictate, what. What losers, or what users get lost, and will lose their supply. So it will be very difficult. It would be very painful for Europe as a whole, and this would be a real, I think, a real weaponization of gas, and it would be seen as, a further deterioration in the relationship between the west and Russia. Of course, it's at an all time low anyways, but it would be, it would be. Deeper and more complicated.

Richard Sverrisson, Editor-in-Chief, Montel: 8:08

Yeah. So in terms of the en energy crisis, if that were to happen, you, we haven't seen anything yet really that could compare to such a situation. And the price impact of course would be phenomenal, wouldn't it?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 8:19

Oh yeah. You would see, prices probably doubling from where they're in, in the, in the current levels of around, you could doubling. Because prices, you would just need to get a whole bunch of European industries, switching off and that would either be done through the price mechanism or like I said, it would be done by, at some point you would expect states to intervene and start physically rationing gas to various sectors and dictating that, gas would go in various places and that would be very damaging for the European farm.

Richard Sverrisson, Editor-in-Chief, Montel: 8:52

Russian gas is still flowing, right? We've had, it's been quite volatile in terms of the actual volumes, but it's still coming through into Germany, into Slovakia, isn't it? What's your, have you done any an analysis on the flows versus nominations here, for example?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 9:07

When we look at this, it does feel like, nominations are generally being met by flows. You are seeing potentially slightly higher nominations coming from some of the European buyers, given that Poland. Now it's not nominating on those contracts, so you're having to see a bit more, gas coming there so that it can be reversed through mal. No, we have seen reverse reversal flows through MAL quite a bit this year. So it's something, we're used to seeing and used to living with, but those are probably a little bit stronger than they were. But generally, it's certainly, gas Pro hasn't been for quite a long time selling any incrementals over contract volumes. Generally we don't see nominations. From their subsidiaries, that's gas pro marketing and trading Wind Gas Select. So those or at least no nomination levels that aren't, are consistent with contract levels that would exclude those kind of contracts in them. It has been, we've already lost year on year. A big chunk of Russian gas and we're probably, with all of the contract expires, if they're expiring now or they're expiring at the end of the year, this will take another we've got about 24 BCM of contracts expiring this year. A couple of those have already gone talked about, but none of those we would see being extended. And so you are looking at, next year probably have, there being less Russian gas again. With less Russian gas, again, you would say, this is market that looks structurally tight. And if we lost more than that 24 bcm, of course it would be structurally tighter.

Richard Sverrisson, Editor-in-Chief, Montel: 10:33

What about getting that Russian gas, which is, reducing the volumes of reducing. What about the supply constraints, getting that into sort of Eastern and central Europe because these countries are very reliant on this gas. They have very little of it, or they don't have a diversified supplier base to choose from. So how, what kind of constraints are there, Trevor?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 10:55

I think what you're seeing is a real change in the kind of structure of trade flows within European markets, right? Historically. We have set up a world where gas would come into the east and move west. And yes, you had some gas, coming in from the north, certainly, and a bit of, and the LNG would periodically come in into the west. And now here we're in a place where there's just a wash of LNG coming into the, in, into the more Western markets. And you're seeing big constraints on the uk. So the UK. L as it can, reason, and then fully exporting to the continent. Same constraints in Spain and what that's leading to, of course, is a very big basis differential. So you're looking at the TTF compared to the m the mvp, a massive discount. And similar with the, with the points. So you're looking more energy Islands is just taking a massive discount because they are where a lot of the spare capacity on LNG is and there is a big pull from the TTF and hubs to the east of those to try and get enough gas in to move that around Europe. And that's proving to be very difficult. And we just don't have probably enough interconnection between those markets and where the gas needs to go to replace all of the lost rushing flows that were having.

Richard Sverrisson, Editor-in-Chief, Montel: 12:13

And generally maybe more globally, are you seeing any changing supply route trends?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 12:18

Yeah. I think what we're seeing is if we're looking at big changes in, in how the markets are functioning, is you used to see a lot of flexibility in the European market. And so it was providing the global flexibility and therefore the TT F. It was the floor price, and then the jkm would just need to outbid up to a point where it had enough gas and then the residual would come into the European market. Now that's changing because a lot of the flexibility we have in the European market is disappearing with all of that Russian gas. As a result, the Europeans are now in a position where they have to structurally outcompete the Asians for LNG. And that's probably gonna continue for a number of years now. So you are this place where you are looking at gas prices saying there's not enough global gas around having lost all of that Russian gas into the European market. There's no way to get it into the Asian markets. So it's a net loss into global gas supply. The outcome of that, of course is prices are just trying to find some degree of demand destruction. And that demand destruction could either come from Europe and its industry, or it can come from South Asia and its gas demand or Northeast Asia and its gas demand. And we are seeing that kind of pain being shared, across certainly across the non. In a way, because we are just as a global gas market, we are just losing supply.

Richard Sverrisson, Editor-in-Chief, Montel: 13:42

On the demand side, we've been quite, Europe has been aided by. Lockdowns in, in China, the, seeing some, a loss of demand once the Chinese economy starts to move out of, if, Shanghai, Beijing come out of lockdown or Beijing isn't, but Shanghai is, how do you expect those kind of demand dynamics to change and supply demand dynamics, even Trevor?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 14:03

Yeah, no, I think it's a very good point, and probably one of the big analytical questions at the moment is we have seen now for, four or five months in a row. Chinese l and g demand being lower year on year and historically it's been something that was, you could bank on being growing year on year. And I think there is a question, how much is that lockdown and it certainly contributes and how much is that price responsiveness of Chinese buyers to very high. High global gas prices and it would be great to say we've, we've completely got a complete answer on that. But certainly certainly it's a mix of two of them, and we've certain, there, there are some price sensitive parts of the Chinese gas demand balances. Certainly the trucked LNG sector I, that sector that's off grid tends to have an ability to switch to oil products. Has been doing that over the last couple of months. So there has been, that demand sensitivity there and you, some of that demand sensitivity we were seeing even before the lockdown started in q4, you did have a mild December and January and that again, it contributed to quite weak Asian demand for LNG. So all of these things have helped and some point they will change, particularly for Northeast Asia. And you would say, as we go through. The summer, the Japanese and the Koreans will want to restock, the Chinese will want to restock. And of course you've got toxic infrastructure based stimulus in the Chinese economy coming. And if that really, starts to boost energy demand again, you would expect gas demand to start going up there. And then it really becomes a bit of a bidding war for LNG. And there is a lot of upside to potential pricing if that comes right. And it's hard to be. Massively bear by just saying as long as Russian gas flows, we can fill storage. Probably we can, but we still will wanna bid away a lot of LNG to help make up for the Russian gas that we're losing.

Richard Sverrisson, Editor-in-Chief, Montel: 16:00

Europe is also ambitious plans for restocking ahead of the winter, up to 90% storage, up to nine, spent full. Is this. Realistic Trevor?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 16:10

I think, there's a number of things. One, possibly 90%. It depends on, how much challenge E continues to come into the market. Is gonna be important to, to meet that. Of course the commission's targets were a little bit lower, but you have 90% at, in a few member states. So probably the weighted average is slightly lower this year, but still the, those minimum storage target. To the extent that you know that people have to fill them takes, just takes more flexibility away from the European market, right? It makes it harder to do that. It means prices are gonna have to work harder in the European market to get all of that gas into storage. Storage was used to be one of your balancing flexibility. You could get, do anything from 80% in a very around 80% in a very tight year. And of course, when it was loose, you would see it going up too. Close to a hundred percent full, right? So it was something providing the market with a lot of flexibility. And as soon as you start saying particularly, for 2023 when actually it will be, from what we see a 90% minimum storage carry out, that minimum storage carry out all of a sudden becomes very difficult to meet it. It's no longer flexible. It becomes quite a rigid part of your balances and, the market. We'll have to for flexibility elsewhere, and that flexibility to either getting enough LNG in or, of course it's about demand destruction within.

Richard Sverrisson, Editor-in-Chief, Montel: 17:33

A few weeks ago, Trevor we talked about replacing Russian gas and you were very skeptical about how that could be done. Certainly this year, maybe not even next year. Is, has anything happened over the past few weeks that's made you change your mind at all?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 17:46

There's certainly limits in, into how much energy can do that. And I think we're probably at those limits now and we're seeing a lot of tension amongst those countries, or we're seeing a lot of discounts in those countries that have the spare gas capacity, which is of course in Spain. So I think, certainly the weakness in Asian demand, and there's been a number of reasons for helping that weakness in Asian demand is maybe surprised a little bit. To the upside in terms of that. But I think we are at those, almost at those limits, to, and as we just talked about, there are some things, on the horizon where you'd say if these things shift, and some of that LNG probably isn't gonna come, be coming into the markets. And maybe that's more q towards the end of three, in the beginning of Q4, that they start to really play out and become problematic, and start to take some gas away. But it does feel like. Further losses than what we've already got, become really problematic to replace. And that I think is the thing to watch out for. And that's why there's a lot of push to get more FSRU capacity in quickly because. That would come into those markets that are most affected by that. And, it wouldn't be so congested constrained that would help out. But again, you would say Europe is at this place where structurally it's just gonna have to pay above the Asians. And if you get some of the more, the Asian bars that have that ability to pay, which is Japan and Korea and probably China, competing for scarce cargoes, then you're in a place where it's just gonna be. Cycle upwards and that is, that certainly is something that wouldn't surprise us very much if we see that.

Richard Sverrisson, Editor-in-Chief, Montel: 19:21

So in terms of prices, it's all looking very constrained then, which means really prices can only really move upwards in an upwards direction. Trevor, would that be a fair summary?

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 19:32

The risks are biased to the, definitely biased to the upside, right? Those are where the risks are. This month will be quite important 'cause it's all, we, till we started talking about which other contracts could go and if a lot of contracts start going around now rather than at the end of the year, of course that's taking more gas outta the market and it's something that has to replace and with the best will in the world, you're probably not seeing new FSU capacity coming in. Until very late in this year or early next year, you're looking at maybe some of the ships coming in for September, some of the Fs that have been chartered, but you still have to connect them. That usually takes a couple of months in terms of building out, the infrastructure to do that. So it's going to be. Difficult year, and there's a lot, still a lot of upside risk, I would say, into where prices could go. The downside is maybe if we don't see very many, we don't see a huge amount of additional disruptions coming from those Russian contracts and maybe the market takes a breeze, a sigh of relief and and maybe those prices go slightly down. But there isn't a lot of downside, I would say to come. Of course we're talking reasonably big swings in prices. That you can see in this market. In the old days, if you said there's 10 euros, downside, that would be enormous. But 10 euros downside doesn't feel that enormous anymore.

Richard Sverrisson, Editor-in-Chief, Montel: 20:52

In this context. So for those listeners who aren't familiar with FSO use, those are floating storage units. Yeah. Yeah. So really Trevor, just a final question. The coming weeks are gonna be crucial then we've heard noises coming from Russia that sort of mid-May is when they'll decide which contracts maybe will go or which countries they could cut off.

Trevor Sikorski, Head of Natural Gas and Carbon Research, Energy Aspects: 21:09

Yeah, I mean it's, I think it's, it's quite political now. There seems to be a legal way through that people can make payments if they want, and the, and the big question is, do you want, right? And if you're just saying I'm just gonna pay in Euros and there is gonna be no transfer at any time from my side into. Then that's problematic and that could lead to further suspensions of contracts. And of course, every time we get a suspension of contracts, it'll, remove a bit of volume outta the balances, and that will provide some upside.

Richard Sverrisson, Editor-in-Chief, Montel: 21:44

Trevor, thank you very much for being our guest on the Montel Weekly podcast this week. So listeners, you can now follow the podcast on our own Twitter accounts. Aply named the Montel Weekly podcast. Please direct message. Any suggestions, questions, or let us know if you think you have a good idea for a guest on the show, you can also send us an email to podcast@montelnews.com. Lastly, remember to keep up to date with all that's happening in energy markets on Montel News. You can subscribe on Apple Podcasts and Spotify or wherever you get your podcasts from. Thank you and goodbye.